The European Commission will review the treatment of covered bonds in the CRR by the end of 2014, according to a leaked draft from the Commission, which will then undertake by mid-2015 an impact assessment on the merits of introducing an EU covered bond framework.

European Commission, Brussels

The leak is understood to be of an undated draft official communication from the Commission to the European Council and European Parliament, dealing with long term finance after the publication in March of a green paper by the Commission.

That called for a review of potential harmonisation of covered bonds. Meanwhile, the treatment of covered bonds under CRR, in particular whether or not they will become eligible as Level I assets for LCRs under the EU’s Basel III framework, has come to the fore following the recommendation in December by the European Banking Authority that the asset class only be included as Level 2 assets.

The final decision on LCRs will be taken by the European Commission by the end of June and intense lobbying, in particular by Danish representatives, has been underway, with critical meetings to decide the matter expected in the coming weeks.

The leaked document deals more widely with any positive role covered bonds can play in long term finance as well as their potential harmonisation.

“While for investors these instruments provide safety and liquidity over senior unsecured securities, for issuers they provide benefits such as cost effective funding and funding diversification,” it says. “Although various EU Directives refer to covered bonds, there is currently no single, harmonised framework that governs covered bond programmes in different Member States.”

Although covered bond market participants have typically been sceptical about any push towards harmonisation – arguing that it is difficult given differing underlying mortgage markets and insolvency procedures in particular – recent developments have suggested that such initiatives are gaining momentum and the draft suggests further concrete action.

Among actions suggested in the draft are:

• The Commission will review the covered bonds treatment in the CRR by the end of 2014 with a view to building the basis for an integrated European covered bond market. The review will consider credit quality, eligible collateral and transparency. It could also explore strengthening supervision, enforceability of preferential rights and bankruptcy segregation aspects.

• Taking into account the findings of the review described above, the Commission will undertake by mid-2015 an impact assessment on the merits of introducing an EU framework for covered bonds.

The European Covered Bond Council has argued that one of the aims of its Covered Bond Label is to pro-actively anticipate such moves and Luca Bertalot, head of the ECBC, said that the latest news backs up the need for the industry initiative.

“The paper confirms the important role of covered bonds in long term finance and shows that the work being undertaken by the ECBC is going in the right direction,” he told The CBR.